The FICO score, which is the industry standard, was created by the Fair Isaac Company in 1987. The company was founded in 1956 and began developing lender risk scores for various local banks two years later. While the specific scoring model is a trade secret, Fair Isaac has provided a general overview that can help you understand how your score is calculated.
35% of your FICO score is based on your recent payment history
Late payments on bills, such as a mortgage, credit card or automobile loan, can cause a FICO score to drop. Paying bills on time will improve your FICO score. This percentage is based mainly on the last two years of payment history. The type of late payment will also weigh heavily on how it is scored. 30 day late payments will impact your credit score for two years, where as 120 day late payments will impact your score for the full seven years that it reports.
30% of your FICO score is determined by your Utilization percentage of your revolving credit accounts.
Utilization is the ratio of current revolving debt (such as credit card balances) to the total available revolving credit or credit limit. You can improve your FICO scores by paying off debt and lowering the credit utilization ratio. Alternatively, applying for and receiving the credit limit increase will also drive down the utilization ratio. The closing of existing revolving accounts will typically adversely affect this ratio and therefore have a negative impact on their FICO score.
15% of your FICO score is determined by the age of your accounts.
As your credit history ages, it will have a positive impact on your FICO score. The older your average age of accounts, the higher your score can potentially be. This is why many credit counselors recommend rather than closing accounts, you should keep them open and carrying no balance.
10% of your FICO score is determined by the types of credit used.
You can benefit by having a history of managing different types of credit, such as mortgages, car loans, and student loans. Although not the most important factor by any stretch of the imagination, FICO high achievers all have a wide selection of accounts.
10% of your FICO score is based on inquires.
Credit inquiries, which occur when you are seeking new credit, can hurt your score. Individuals shopping for a mortgage or auto loan over a short period will likely not experience a decrease in their scores as a result of these types of inquiries, however. While all credit inquiries are recorded and displayed on your credit report for a period of time, credit inquiries that were made by yourself (to check your credit), by your employer (for employee verification) or by companies initiating pre-screened offers of credit or insurance do not have any impact on your credit score.
FICO scores range from 350 on the low end to 850 at the top. Studies have shown that over 60% of Americans fall between 650 and 720. Keep in mind, there isn’t just one FICO score. Usually, a lender will pull credit scoring and reports from all three major credit bureaus. Sometimes, your score can vary from agency to agency.
One of the biggest keys to understanding your FICO score is recognizing that time is your friend. When it comes to positive information, the longer an account stays on your credit report, the better it looks in the eyes of FICO. Conversely, the older a negative account, the less impact it has on your FICO score. Understanding the length in which something will impact your score is crucial.
It only takes one negative item to drop your FICO score as much as 100 points. Once you have your first negative entry, it is an uphill battle to bring the score back to where it was prior to the negative entry. Try to work with your creditors at all cost to avoid negative items such as late payments, charge offs, and collection account.
Public records can also destroy a FICO score. The FICO score is designed to show credit worthiness. If you have recently been sued or have a tax lien, FICO recognizes this as very detrimental to your ability to borrow money.
On the plus side, the FICO scoring model has no historical reference. It will score based on what is listed within your credit report at the moment it is pulled. If you paid off $10,000 worth of credit card debt last month, after the credit card companies report your new balance, your score will rise sharply if you were near the top of your limits.
This article was last updated on December 26, 2022